Thursday, June 11th, 2009

“Transformation comes from entering new markets and leaving old ones. Companies rarely transform themselves through cost cutting or improved operational effectiveness. Operational effectiveness is necessary to compete, and world-class operators can create competitive advantage, but in almost all cases, operational effectiveness is insufficient to stave off disruption and drive long-term competitive advantage.” – Scott Anthony

We read a lot, and in many cases see people celebrate, the idea of “creative destruction”. This notion is most popularly associated with economist Joseph Schumpeter. The concept is that innovation brings improvements to the world and fuels economic growth, but it also undermines existing ways of doing things. For example, we see online music distribution disrupting traditional CD marketing, with serious consequences for the music industry.

The positives are very real of course. In aggregate we are much better off for all of the advances that we’ve had as a country. People who think life was better in the past, I think, mostly think life was better in a past that never actually existed. Or they imagine that they would be part of the more privileged in that past without considering that they might be among the unlucky. But there are many very negative consequences to innovation too. Entire industries that used to exist now no longer do. Companies that failed to reinvent themselves for a new era often failed. This had both a financial and human toll. There’s no need for Midwesterners to dwell too much on this as they know it all too well from personal experience or front line observation.

What’s true for companies and markets also seems to be true of places as well. Most Midwestern cities would appear to no longer have that much economic relevance. They are sustained primarily on inertia and legacy economies that are in a state of decline. The challenge for them is to reinvent themselves for a new century and a new world.

This isn’t easy. Reinventing yourself requires letting go of what it is you identify as core to what you do today – never easy in the best of times, and particularly difficult in a place like the Midwest. Midwest cities need, more than anything, a game plan for making themselves relevant to the people and businesses who will be fueling the 21st century.

Many of them are attempting to do that by upgrading urban amenities. The Florida school suggests that one needs to build inspiring environments to lure people in. Then those people make your economy go. I’m sympathetic to this to a point. Over the long run in the modern economy, jobs follow people. The Sun Belt should have taught us that if nothing else. And of course I’ve championed better quality of space for our cities.

The problem is that biking trails and lanes, art galleries, light rail lines, etc. are really just the new ante in a respect. They are not going to create a differentiated environment to turn around decline, except perhaps on a relative in region basis. Consider: if you value these things, what Midwest city is going to be able to supply them in a better manner than places like Portland, Denver, or even Atlanta or Dallas? Not likely too many of them.

Back in the dot.com era, businesses used to re-brand their logos with .com at the end of them – I recall Neiman’s shopping bags for example – to show they were with it whether they were or not. Today, there’s no such thing as a “dot.com strategy”. Use of the internet is simply built into the fabric of business.

This is the real challenge. To come up with the right approach to create a viable niche the modern economy. Without this, too many places are simply going to end up like buggy whip manufacturers. Cities, like companies, can become obsolete. And the toll will be large in human, financial, and environmental costs.

It is imperative that there be a vision for change that is serious, relevant, and championed by community leadership. This can mean political leadership such as that from Mayor Daley of Chicago, who has been a tireless champion and promoter for Chicago’s transformation. It could also come from other sources too, such as leadership from a motivated business community. But whatever the source of it, it has to come from somewhere.

Some might say that we can’t afford to finance this type of transformation. Two responses. The first is that we can’t afford not to. With many of our cities and states withering away, the alternative is simply not acceptable. The other is that it doesn’t have to cost a huge amount of incremental money. There’s no doubt that financial discipline, and the effective and efficient delivery of quality public services is important. It’s like Indiana Gov. Daniels recently said, “I guarantee that the principles of fiscal caution and conservatism have not gone out of style.” His disciplined approach put Indiana in the best fiscal condition in the Midwest. It’s probably the only state not looking at major tax increases and/or service cuts – meaning it might be one of the few places able to invest, as it is doing with the Major Moves highway plan, for example.

The answer is not to simply throw money at the problem. Actually, we’ve been pouring money into cities for a long time, often doing more harm than good. Some cities may need to increase service levels and spending. Others might choose to spent the same or even less. But the key is to spend well, to make sure that we are investing in the service of transformation and not just spending for the sake of doing something. And with the level of investment we’ve seen in the last decade or two – much of which did in fact go for good things – I think most cities have proven that they can figure out how to find the cash for worthwhile endeavors. By all means we should be looking at ROI, however.

Whatever the individual strategies they choose to pursue, the cities of the Midwest need to step up to the challenge of transformation, lest they find themselves creatively destroyed right out of economic relevance.

23 Responses to “Creative Destruction Is Real”

"Whatever the individual strategies they choose to pursue, the cities of the Midwest need to step up to the challenge of transformation, lest they find themselves creatively destroyed right out of economic relevance. "

What if its not any one thing a city can do in the face of a federal government determined to ship their economies overseas? No amount of innovation or change can alter the fact that a company who stamped sheet metal to accept electronic curcuit boards for TVs in Illinois cant compete against a tax break given to a holding company offshoring it to a shack factory in Shenzen partly financed with sovirgn wealth fund money from Abu Dahbi. There is no alternative for the locals, they've been searching in vain for 30 years now. The region either fights to keep it's status as the premier manufacturing hub of the planet, which is how great wealth is and always has been produced, or fades away like some renaissance sea trading city. The demise of the midwest economy is not an isolated experience. Its just a crack in the dam with real consequences for the larger economy as a whole. Call it trickle up failure.

anon, I would suggest that when you can't compete in large scale manufacturing, that's one of the businesses you ought to be looking at exiting. I think the Midwest can still be a player in manufacturing, but the old concept that a factory will employ large numbers of unskilled laborers at good wages is a thing of the past. What will continue to thrive is specialized manufacturing (such as Northwest Indiana's steel mills) or smaller more nimble and lean manufacturers, but certainly for most people the car plant isn't the road to success in the future.

Problem is that there is no obvious replacement and retooling the skills of the people who worked for two decades in that sheet metal factory may not be easy or even possible.

And the fact that cities like Atlanta, Nashville, Raleigh, Dallas, Denver, Austin, Houston, etc. have been thriving shows that American cities can compete in the world, even if they aren't Silicon Valley or NYC. Trying to compete with low wage offshor labor operating in a regime with virtually no environmental regulations, safety regulations, etc. is simply not a game you can win.

There's truth in what you say, but too often Midwesterners seek to blame their problems and failures on nefarious outside forces instead of taking a hard look in the mirror.

Aaron: Your last comment is what I have been tying to explain to people forever. Life, and the economy, is not zero sum and it is not static. Believing what is here today should always be here is what got us into trouble in the first place.

Anon: You're right, wealth is produced in manufacturing. But that is not where great wealth is produced. Great wealth is produced by the people who manage the flow; the flow of goods, power, people, and information. If you look at history, the greatest cities in the world fell into a couple main categories. Capitals: the flow of power and information. And Ports: the flow of people and goods. Look at the big cities in America. New York: flow of people and money, D.C.: flow of power and money, Chicago: flow of goods and people, Miami: flow of people, Los Angeles: flow of people and goods, San Fransisco: Flow of people and information. London: flow of power, money, people, and information. The list goes on. The great ancient city of Athens, was built on trade. Trade is what creates wealth. The cities who manage the trading of goods, power, wealth, information, and ideas are the cities who succeed. What helps a city or area break into this class of world status trading cities is innovation. If you develop something revolutionary, you are going to be the natural place for that to be traded. Success and innovation build on each other. the more success you have, more of the most innovative people will choose to be there.

Which comes back to the zero-sum game. Innovation prohibits things from being zero-sum. People bring out all the jobs lost in manufacturing. A long time ago, most people worked in agriculture. Very few people work in agriculture now. What happened? Things shifted and developed. Manufacturing employed all those people and more. Now jobs are leaving manufacturing, have been for 20 years, but why has the unemployment rate not dropped? (pre-recession, recession has nothing to do with manufacturing). Jobs are moving to the information and service economy. The economy of managing information and the economy of helping people improve their lives.

Sorry if this is rambling but just because manufacturing is how we used to make our wage doesn't mean that is the way we will make our wage for the next 50,000 years, we grow, develop, innovate, improve, evolve, redistribute, realign, rethink, and build on the past. That is the way it goes, and that is the way it will continue to grow.

Semi-skilled manufacturing, defined as reading detailed blueprints and using them to put manufactured goods together, has very little added value nowadays. That's why it can be outsourced to Shenzhen, where it supports a GDP per capita in the high four digits or low five digits.

The high-value positions in manufacturing are design and marketing, in line with the rise of professional jobs. Such jobs stay in developed countries, since the only way for a country to be able to compete with the the first world in anything that requires a college degree is to have a comparable number of people with degrees, which requires first-world incomes to begin with.

China and India are anxious to develop their education systems and to attract professional jobs; Chinese officials express exasperation to any Western writer who visits about how the outsourcing they get is just the scraps.

It's only declining industrial regions that seek to preserve semi-skilled industrial jobs, just like it's only declining agricultural regions that seek to preserve farm jobs. No doubt there are large communities of people whose way of life is tied to stamping sheet metal and assembling cars, just like in 1900 there were large communities whose way of life was tied to growing wheat and raising cattle. Those communities fought and still fight losing battles against trends that deprecate their values. The farmers settled for farm subsidies and depopulation. What the autoworkers will settle for is one of the looming political fights of the coming decade.

"Jobs are moving to the information and service economy. The economy of managing information and the economy of helping people improve their lives."

We have been hearing that for at least 20 years and that trend continues; however, there is only so many jobs that can be produced in that info/service economy before some of them are transferred out to other lower cost environs. (witness the outsourcing of IT/Help Desk/Customer support to India, Russia etc).

Jeff Immelt, CEO: GE, recently said "the U.S. must return to its manufacturing roots…moving the country away from manufacturing and towards financial services was wrong…I believe that a popular, 30-year notion that the U.S. can evolve from being a technology and manufacturing leader to a service leader is just wrong…real engineering was traded for financial engineering. In the end, our businesses, our government and many local leaders lost sight of what makes a nation great. A passion for innovation."

The Midwest/Upper South should rethink how they can nurture and grow what is left of the manufacturing base that made them strong in the first place. It should once again be 'cool' to be in manufacturing.

Examples of how this transformation is occuring can be found in Louisville.1) Ford has committed to keep its 2 plants operating and is spending $$$ to retool them to make more fuel efficient cars/trucks. Currently the plants employ 50% of their peak (@4500). If they are successful I would think the prior employment levels will return; possibly exceeded. Union & management are working together; along with city/state officials.2) GE's Appliance Park has seen employment drop from 19,000 to 5,000 over the years; much of that drop because of prior mgmt/union relations that were not co-operative. GE did not introduce a new product to the plant since it opened (50 years ago)…until now. New 'green' water heaters are to be built there along with a new data center. Up to 1,000 new jobs are expected…and more importantly, other 'green' product introductions are expected. (by the way the manufacturing is to be transferred from China)3) UPS – employs > 20,000 people across a range of occupations (pilots, management, IT etc and package handlers). A number of years ago, UPS and UL & other metro colleges worked out an agreement that allows package handlers to earn a degree while working for UPS.4) A consortium of various private sector company's, universities, state, local, federal resources recently applied to build a new manufacturing plant for battery's. That application is pending DOE approval later this summer. If approved a new facility will be built in metro Louisville employing 2000+. It would also serve as the basis/anchor of existing auto related manufacturing that makes Ky #2 or 3 in the US for that type of activity.

The above are examples of the types of results that can occur in the manufacturing segment. I think the wholesale rush/belief that IT/services is the job salvation for every city should be rebalanced/rethought with a view toward working with the manufacturers that helped build those cities in the first place (if they are still around) or to attract new manufacturers to fill the void. The key is innovation and co-operation.

Adam: "You're right, wealth is produced in manufacturing. But that is not where great wealth is produced. Great wealth is produced by the people who manage the flow; the flow of goods, power, people, and information."

– great wealth was produced and destroyed by the current group of Wall St wizards which is leading to a decentralization of that power away from NYC– great wealth was produced and eventually destroyed in Detroit which did see its power decentralized and not likely to return– Silicon Valley see's continuing cycles of boom and bust…and the contiunued decentralization of its power over time

– I really would like to live in the Nirvana city you describe where everyone has a PhD/College Degree with no need for semi-skilled industrial jobs or agricultural jobs. 60-80% of the populations of most metro's would be unemployed.

Hey, I agree there are no easy answers. This process might not be fair – but it's also real. There are places in this world that used to be major cities that are now just ruins. There's no God-given right for cities to continue to exist and prosper. They have to stay at it every day.

FACT: Most Midwestern cities were created and grew to serve the needs of an era that no longer exists. They would not be created in the modern age. Thus they have a challenge to create a new economic logic for themselves.

David, this is a continuous process. You can't just say, "We switched to services". Because as you note, that's a constant dynamic. You've got to lay a foundation for continuous business formation, expansion, new industries, etc. to replace those that will inevitably fail. Remember, even Silicon Valley's original tech industry included a huge manufacturing base that is now gone.

As for manufacturing, I've shown that federal reserve chart before. Until the recent recession, industrial production was at an all time high in this county. We still make plenty of things. We just make different things and in different ways. The key is that there is no need for large volumes of unskilled labor at premium wages. I do agree completely, however, that we should not pursue strategies solely aimed at the educated and elite and that finding jobs and ways for the working class to achieve its aspirations is important.

I have to disagree with this transition idea as well. People came to the US when we were growing agriculturally because there was essentially limitless cheap land. When farming became more productive, and fewer people were needed, it didn't matter because factories were booming and absorbing the farm hands. But where will mass employment come from now? Retail?

We've been using consumer credit to create an unsustainable "full employment" for 25 years. At some point the debt payments get larger than than the paycheck, and consumers default. We hit that point last year.

Now what? What do we do with the 1/3 of the adult population that tried to go to college, and couldn't make it through? And the 1/3 that realized they weren't "college material" so they didn't even bother. There are only so many Walmart and McDonald's jobs we can support while we pay off our credit cards.

In 20 years of following the news, I've never heard a viable answer, and I've almost never heard a main stream politician/pundit/academic admit there is a problem.

Alon:"I do agree completely, however, that we should not pursue strategies solely aimed at the educated and elite and that finding jobs and ways for the working class to achieve its aspirations is important."

– I don't think there should be any resources expended for the educated and elite (relatively speaking)…they can fend for themselves. The 'working class' is from where the 'elites and educated' became 'elites and educated'. If anything, the 'elites and educated' need to spend much more of their time/resources on the 'working class' or they will find themselves much less elite.

Some of the comments here simply echo what The Urbanophile is getting at. Manufacturing as an industry isn't going away. However, what get's manufactured and how it's manufactured has changed. I have no idea whether or not the future bodes well for the entire working class to continue in manufacturing. However, it seems to make sense for cities to do everything they can to create excellent educational environments so that companies will locate new manufacturing hubs there. I believe Proctor and Gamble just located a plant in Salt lake simply do to the kind of workforce available there.

Midwestern cities must start doing everything they can do to foster small business growth. Entry into business can be cumbersome and expensive and frankly much of the red tape and expense is holding back people who are now in positions to take chances on small businesses out of the game.

Geographic advantages abound to help in this flow of goods mentioned here. There's a reason Fed EX and UPS have major hubs ion Memphis and Louisville. These hubs are responsible for a great deal of other businesses locating in these cities.

The idea that Louisville or Indianapolis or Cincy is going to be New York or San Fran needs to be abandoned as well. The population isn't there. The legacy isn't there. And frankly the people don't want that. They need to be the best mid-size city they can. There is no reason Louisville can't be as successful as Portland. It will take similar investments in making these cities livable (mass transit, schools, green space, safe streets…) but they are more than attainable.

"Manufacturing" jobs today are much more likely to be like yesterday's "technician" jobs which require some formal training beyond high school.

Kurt Vonnegut presaged this transition with his book "Player Piano": the "manufacturing" jobs are now earned by the people who take care of the CNC equipment.

David, no one has the right to hold the same job for "30 and out". Not me, not you, not the guy in the GM Metal plant on West Washington St. in Indianapolis.

What everyone is "entitled to" is the job and wage that corresponds with their preparation and perspiration. The truly disadvantaged–sick or mentally challenged–deserve a safety net. The rest of us have to sink or swim on our own.

The flip side of that is, even people of below-average intelligence can learn to do skilled work. I don't think we should fall into the subtle bigotry of soft expectations.

And that's what this ultimately boils down to: half of everyone alive is of "below average" intelligence or education. That probably doesn't include anyone here; among the well-educated, it has long been acceptable to be bigoted against the below-average people. Even social-service types fall victim, adopting a "poor dear" approach to people who can and should just do more for themselves.

This viewpoint is influenced strongly by family history: my mother grew up on a farm right after the Depression, moved to a Midwestern city at 19 and got an education. My dad was raised by a single mother in a Midwestern city during the Depression, and got an education. All my siblings have degrees, too, though one didn't get hers until the age of 40. I'm no child of privilege; I self-financed 75% of my own education.

"The problem is that biking trails and lanes, art galleries, light rail lines, etc. are really just the new ante in a respect. They are not going to create a differentiated environment to turn around decline, except perhaps on a relative in region basis."

I agree with what you said, but the importance here is luring folks out of the suburbs and back to the cities. Once people are connected in real urban cities again, economies will work much better. That does not, as you said, solve the problem of industry, but it does make for better communities, which is part of the goal anyway.

David: 50 years from now, having no college degree may well be like having no high school diploma today. You shouldn't forget that the era of heavy manufacturing began while most Americans still had never gone to high school. In the 1940s, high school completion rates were still below 50%. Fortunately, the US spent its resources on universalizing high school rather than on preserving unskilled jobs.

I have no idea why you quote me as talking about "strategies solely aimed at the educated." I never said anything like that. The strategy should be the same as it was a hundred years ago: send the working class to the growth industry, which today is retail, but at the same time work on increasing wages and working conditions through labor law and unionization; simultaneously, universalize the necessary level of education, in today's case college.

Thundermutt is right here – everyone can get the necessary level of education. Only two hundred years ago it was commonplace in Europe that only the elite could ever be literate. That the US had 50% literacy was amazing. Of course now countries are expected to have universal literacy, and developed countries are expected to have universal high school education. I've never seen any argument or evidence that universal college education is impossible.

The talk about unsustainability or bubbles is cheap. GM was nothing if not a bubble: through its pension benefits, it heavily mortgaged its future to pay for its present workers, beginning in the 1950s. On 538, Nate Silver shows how GM's profits have been trending down for fifty years independently of business cycles, as retiree obligations have soared. This could have been avoided if the UAW had pressed for universal health care and pension benefits after WW2, but instead it chose the gravy train and screw all other workers.

With all this focus on the midwest's declining "economic might", have we ever stopped to ask ourselves–"who cares?"

The beauty of modern amenities brought to us by technology is that I can enjoy all the comforts and pleasures in life (with the exception of perhaps the highest variety of dining options–but so what?) sitting in a house in Dayton, Ohio that I can have in Manhattan.

The very technology and industries that have made midwestern cities obsolete have also created an almost ubiquitous standard of living that we all can enjoy.

So what if Cleveland, or Detroit, or Dayton, etc are falling behind? So what if they fail? I think these questions need to be asked. Perhaps the midwest can best save itself by swallowing its pride and allowing its grandeur to sink into oblivion.

I know that sounds silly, but as long as I can watch 900 channels, sip on mochas, eat tasty food, have a house and a car, pay the bills, send my kids to school and college, etc what's the loss?

Besides, the only city that really seems to have a shot at global greatness and which actually gives people inspiration from the gut (you know what I'm talking about–that "wow" factor that is natural and not feigned so as not to offend your hosts) is Chicago–nobody else comes close. Now, this isn't meant to slight other midwestern cities–heck, many of them have some unique and fascinating districts worth preserving–and I hope they stay that way. But why lump on the added burden of trying to be a big player in the global economy? Chicago's leadership deals with that hassle every day, and if you ask me it becomes a headache for them.

I kind of like how older European towns and cities approach these things–less obsession with economic growth and more emphasis on quality of life. Perhaps that should be the midwestern model, instead of the typically American, restless fight to be the economic winner.

I'll admit that I"m playing a bit of a devil's advocate in this post, but I do think it's an important question to ask ourselves.

TUP: what you say is true for people who can afford to send their kids to private school and have a maid take care of food. For everyone else, a failing city means failing schools and 15 minute drives to the supermarket.

There's something to be said for ignoring money and focusing on school quality, but in a national market for teachers, that depends on money.

I think there's something to TUP's argument, but I'd put a different spin on it. The rise of mass affluence in the upper middle class and changes in society since around 1990 have radically upgraded the amenities on offer in smaller cities. Today you can get a good cup of coffee, a good meal, local foods, etc. nearly anywhere, and the internet puts the best of what you can't get within reach.

I did some thinking about what I would really have to give up to move to a smaller city. The biggest two things I came up with were opera and the types of clothes I like. But the Met simulcast put opera within reach anywhere, and the internet brings clothing within reach too.

I think this allows smaller cities to conceivably compete for talent they could never get before, because they are no longer total wastelands.

On the other hand, if the city itself is economically sick, its schools, infrastructure, etc. will decay as Alon notes, leaving a place few people would find attractive in the first place.

Aaron, what factors did you consider when calculating what you'd have to give up to move to a smaller city? I'm asking because for me there are a lot of negatives, and I don't go to operas or buy special clothes. For me the issues are fairly standard things like walkability, a social circle that doesn't hate immigrants, and having a good supermarket and a couple of decent mid-scale restaurants nearby.

Louisville has done all it can to keep it's manufacturing base. It has to because Louisville is still trying to figure out how to make that transition from a manufacturing city to a 21st century economy.

In the long run I think GE and Ford will be come a smaller and smaller piece of Louisville's economic pie. GE use to employ over 22,000 people. Now it's right around a 1000.

If Louisville is going to make that turn into the 21st. Century it's going to have to find a niche market or markets and run with it. Some of the markets Louisville could really exploit would be fine dining. Louisville has a large amount of local restaurants. More so than many larger cities. We are also HQ to some of the largest chains in the US (most of them were founded here..Texas Roadhouse, Tumblee Weed, papa Johns..etc.). We should make a push to be the culinary capital of the midwest. Attract some more schools and see what happens.

this is just one example. Every city does something or has some unique things. It's just if they can be exploited. In the long run this is the only way the mid-sized and smaller midwestern cities will be able to survive.

Alon: Unions are a legally created market distortion that captures a share of a company's profit for the workers. The first conclusion from the economic theory of a competitive market is: there are no profits! As industries mature, their profits drop steadily unless something intervenes to keep out competitors.

After deregulation, there have been no profits for airlines, trucking companies, etc. etc. There are no profits in farming. There would be no profit in oil without OPEC. There are no sustainable profits in retail – look at circuit city, linens-n-things, Kmart, and the ten thousand empty strip malls in this country.

I was thinking of moving from a Chicago/NYC/Boston/SF type of city to one of the smaller Midwestern cities I cover like Indy/Cincy/KC/Mnpls, etc. You could probably do ok in even smaller places like Madison. If you were to go below that down to say the Ft. Wayne size, I'd have to do more research to see what the gaps are.

All of those cities have pockets of urban living if you want it. Occasional commenter Visualingual lives carless in the OTR neighborhood of Cincy. But I'd argue you would be better trading what NYC does bets for what Cincy does best rather than trying to trade down to an inferior NYC experience. All of these places have their own unique goodness as well.

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About the Urbanophile

Aaron M. Renn is an opinion-leading urban analyst, consultant, speaker, and writer on a mission to help America’s cities thrive and find sustainable success in the 21st century.